As the card business has become more sophisticated, it has also disaggregated into a non-monolithic structure. There are some players that perform most of the functions in-house while many others have out-sourced functions to third party providers. The most common operating model is to retain operating control over the Three Cs—credit, customer service, and collections—although sub-systems may be licensed to execute these functions. Cardholders generally refer to consumers and businesses that have accounts with issuers. Issuers solicit credit card accounts, extend credit, stimulate activity and usage, perform customer service, collect payments, and manage cardholder risk. Merchants may be any business, not-for-profit or government organization engaged in exchanging value via credit cards. Credit sales are settled to a merchant's demand deposit account (DDA) that the merchant has with a commercial bank, also referred to as the merchant bank. Acquirers may be referred to as “merchant processors.” Acquirers purchase credit sales from merchants and forward the balances to issuers. In order to do this, an authorization process obtains, transports and routes data to enable authorization and electronic settlement between/among issuers, acquirers, and the bank where the merchant maintains an account to receive cash credit card receipts.
Card associations set the operating rules and enforce them with various constituents in the industry. They also act as a common utility and operate the communications network, the switching and routing function, and certain back-up and stand-in functions, such as authorizations. Card associations are also significantly engaged in globally developing and maintaining brand equity and card acceptance. Almost any function can be out-sourced to third party providers. Usually but not in all cases, the decisioning criteria may be set by an industry client entity and an outsourcer may act as an agent performing functions in accordance with contractual specifications set by the client entity. Such functions may include credit granting; application processing; plastics issuing; accounts receivable processing (e.g., applying entries, computing balances and interest, etc.); statement rendition and mailing; payment processing; authorization processing, switching, and routing; risk management algorithms—application scoring, behavioral scoring, fraud controls; selling merchants; purchasing credit card sales; settlement processing; customer service; and collections, both pre and post write-off.
Regulators may include banking entities within the industry that are regulated by various federal and state regulators. Through the interstate commerce clause and other powers given by Congress, the federal government regulates fair credit granting, fair credit reporting, fair debt collection, and consumerist issues via the Federal Trade Commission (FTC). Federal courts have also defined distinctions between loans and credit purchases—a subtle distinction where purchases generally are freed of state regulations for usury and terms and conditions making purchases more flexible transactions. States regulate interest rates, fees both directly and indirectly (via usury limits) and terms and conditions for accounts which have been extended credit from within their states. Card issuers with national charters or who are insured by the Federal Deposit Insurance Corporation (FDIC) can export rates across state lines such that an issuer who performs the credit-granting function in Delaware may charge Delaware rates to a Maryland customer without regard to Maryland law. As a result, issuers locate their credit-granting functions in states with favorable laws such as Delaware, South Dakota, Nevada, and New Hampshire. Retailers who extend credit are granted the right to do so through the Retail Installment Credit Act (RICA) but are expected to comply with all state laws. As a result, retailers are severely limited in their ability to manage risk by usury law constraints (unless they obtain a bank charter) and have the de facto and de jure inefficiencies of operating in 50 different jurisdictions.
According to a general purpose credit card (GPCC) economic compensation model, there are three sources of revenue in the industry which include finance charge income, fees and discount income. Finance charge income is the gross annual percentage rate (APR) of interest collected from cardholders. This typically yields less than the nominal APR because of the portion of balances which are paid in full each month and earn no interest. These balances are attributable to cardholders who do not use the cash flow financing benefits of the card and are typically rewards-seekers who spend liberally on the card but pay their balances off each month. Issuers also fund the receivable at their cost of funds, so in practice, the spread, or interest differential, is the real source of revenue.
Fees are applied for late payments, over credit limit transactions, supplementary cards and having an active account, etc. Competitive factors may make it difficult to impose all of these fees. Fees are also earned by selling credit-related services such as credit life insurance, lost card insurance, reporting services, marketing affiliations, and/or other services.
Discount income is earned from credit sales purchased from retailers. The discount is intended to cover the transaction cost, the cost of financing receivables that are paid off in less than 30 days and earn no interest, and as compensation for presenting a merchant with a customer who is credit-worthy and eligible to make a purchase with credit. The actual discount charged to the merchant may result from negotiations with the acquirer. The acquirer considers profitability factors, such as business volume, fraud rates, average ticket size, etc. when an offer is made. Generally, an acquirer may have two known pricing components—fees paid to the associations and interchange fee paid to the issuer—and the residual which covers the acquirer's operating expense and profit. The interchange rate may be set by the card association. In practice, interchange varies by type of card—generally these are GPCC cards, non-revolving cards, and procurement cards. While rates may vary from card to card, the model is substantially similar. Discount income may be typically split three ways: the acquirer retains a portion; a small portion is paid to the card association for services; and a portion, referred to as “interchange” is forwarded to the card issuer.
Consumers of higher risk or less credit worthiness are generally extended credit at premium (e.g., higher) interest rates to cover the risk. Accordingly “weak credits” are further stressed by the adverse cash flow implications of premium interest rates. The balance is increased by the amount of money calculated by the higher interest rates. The cost of borrowing discourages spending and lowers consumer confidence. While there is a higher amount of risk associated with extending credit to such individuals, there are valid reasons for providing all consumers access to credit, even at a premium cost of borrowing.
Merchants generally make a certain margin on the goods and services sold. Full service merchants may have mark-ups of 50% and some discounters may have a mark-up of 27% margin. Credit card transactions are actually the purchase transaction where the discount rates and/or interchange fees may be applied. A discount rate is applied to the credit sale, advancing the net amount after subtracting the discount from the gross sale in accordance with the contract through the acquirer. The discount rate for a general purpose credit card (“GPCC”) is negotiated between the acquirer and the merchant. For example, a typical GPCC discount rate may be 250 basis points or 2.5%. From the discount rate, the Merchant Processor pays an interchange fee to a Credit Card Issuer, an assessment fee to a Card Association, and the residual is provided to cover the acquirer's operating expense and profit.
Interchange fees may include fees paid by a Merchant via Merchant Acquirer to a credit card issuer, such as Card Issuing Bank, for transactions that are processed through interchange. Interchange may represent a clearing and settlement system where data is exchanged between a Card Association and a Card Issuing Bank. Interchange fees may be set to compensate for risk and operating expenses involved in processing a transaction. Interchange fees vary depending on the type of card presented, how it is processed, the type of merchant accepting the credit card and/or other criteria.
As an applicant applies for a credit card, the applicant may be examined to determine whether the applicant is creditworthy. Each credit card issuer may have specific standards determining whether to offer credit to that individual and at what rate. According to some credit card systems, there are several different categories that an individual may be placed in which the applicant is “risk-rated” and levied finance charges (and interest rates) in accordance with their risk rating (e.g., higher risk, higher finance charge and interest rates).
In view of the foregoing, it would be desirable to provide a method and system for dynamically adjusting discount rates which overcomes the above-described inadequacies and shortcomings.